Debt Restructuring or Default

If you can’t pay from own resources, this is what it comes down to, eventually. It’s definitely not a question of it, but of when.

An article in Handelsblatt today is instructive. In it, Sigmar Gabriel, head of Merkel’s coalition partner SPD, summarizes what was agreed in a five-person meeting of German leaders before the Eurzone summit last weekend:

(1) all agreed that debt restructuring will not be accepted

(2) all agreed that if Greece puts in a (presumably unconditional) demand for debt restructuring, the German government wants Greece out of the Eurozone.

Apparently all also agreed that the demand for Grexit must, however, not come from Germany. On the first two points, no-one has contradicted him so far.

If Germany sticks point (1), namely that debt restructuring can only happen outside the Eurozone, the deal hammered out on Sunday is already dead: In the absence of debt restructuring, the IMF has made it clear that the debt would be very far from sustainable, which will prohibit the IMF from participating. So Germany would have to accept the deal in the absence of IMF involvement, another (current) German no-no.

The situation is now rather simple: One or another rule will be broken. The Eurozone rules don’t allow for the current situation at all, in no scenario. The rules say you can’t default, if you believe Schaeuble you can’t restructure, and you can’t exit. The German position is that if Greece can’t stick to the first two rules (which it can’t), it — but not Germany — must break the third. The German position is still an active decision, namely that rules must be broken, but preferably by others.

It is also economically irrational, since a Grexit would cost Europe more than a bailout. It is also politically dangerous, because Germany is already in the very uncomfortable position of now being seen as the vanguard of the Grexit chorus, which is exactly where they did not want to be.

Something will have to give, and for the Greeks to bide their time (by voting for the unholy and unsustainable deal) is the right, if disingenious outcome. Everyone is disingenious right now. But it buys everyone more time to think again about what they really want to do.

It’s been clear for a long time and it is even clearer now that this is a failed marriage where neither party wants to be the one asking for a divorce. Not Europe (the financially ‘healthy’ partner), because they would be seen as the bully, and not the weaker partner, because economically it simply doesn’t have the option. We need to win time not only to hammer out a more viable deal, but also to hammer out the alternative: How a divorce would look like, and how it might work.

The least bad option, if you are the weaker partner, is to stay and hope that the stronger partner comes to their senses and sweetens the divorce. Tsipras has already told his parliament that he does not believe in the deal, but that they must accept it. Germany wants Greece out but wants Greece to push the button. Greece, however, doesn’t really have the choice to ask for a divorce. Germany does have the choice to either try and rescue the marriage, or make the divorce work. In the absence of a workable divorce proposal, Germany has put itself into an impossible corner for now, so the negotiating parameters will still have to adapt. Whatever the ultimate outcome, and wherever the Eurozone wants to go, some rules will be broken, and some rules will have to change and be adapted to make future versions of the Greek drama manageable within the institutional framework of the Eurozone.

We need the time and the will to put the legal framework in place, and make it socially, politically, and financially acceptable. All parliaments would do well to waive the deal through, knowing that it cannot work, and cannot possibly be the final answer. The Eurozone still needs to work out whether it wants a relationship counsel or a divorce counsel, but it needs some counsel, and time to work through this, and change its rules so we cannot end up in a position where they simply have to be broken with no alternative. Even if the marriage were to be saved in the end, I think it can only happen once the exact details of the alternative (the divorce) have been planned, agreed, and absorbed by both sides. If Germany wanted Greece out, it would be easy to just sweeten the divorce. Since this isn’t happening, I am led to believe that Germany still isn’t 100% sure where it wants this thing to end up. In all cases, the parties would do well to negotiate the details of a potential divorce.

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3 responses to “Debt Restructuring or Default”

Unless one is a conventional austerity economist, it has been obvious for some time that Greece’s debt is impossible to pay at face value. Extending more bank credit just kicks the can down the road.

So far EU negotiators have not shown much imagination. Greece could have dual currencies while still being listed in the EU, for instance. In order to keep up appearances, they might not call it a drachma, but it would loosen up money flow for local operations that are in pain.

Greece is far from the only case. Puerto Rico is another. States like Kansas that don’t want to raise taxes are another variation. I’ve even seen a couple of projections of US debt floating upward indefinitely as long as the present financial structure is unchanged.

As in the case of Greece, there is a tendency to externalize private debt to government, then starve the government of funds, or put the economy in a state where tax rates are enormous in an attempt to balance a budget.

The assumption usually is that future growth will eventually pay for past expenditures. Another assumption is that if capital goes into private hands instead of public, growth has to take off. If that is no longer possible, we need rules for a different ball game. Any comments?

With respect to the assertion – which lots of people have made, not just you Karl – that Grexit is more expensive than bailout, I think that’s only true if you assume that there is just ONE bailout. But while Grexit is a single event, there is very little chance of just a single bailout suddenly righting the ship. In any case, we need to consider the cost of Grexit versus (expected PV of future bailouts). The latter might be a very, very large number indeed.